U.S. stock prices wandered indecisively between – 3% and +3% during the first half; no fun, but not scary. Things got more emotional between the Fourth of July and Halloween (see Figure 1).  The index of large-company stocks slumped suddenly to -9% YTD in August, troubled by currency and economic weakness in China. A robust October rally boosted the index back to barely positive, then drifted to an inconclusive -0.7% for the year when the closing bell rang on December 31. (In the first week of 2016, stocks plunged another 6%.)

But weakness in U.S. stocks was deeper and more widespread last year than indicated by Figure 1. Late last year, the 10 largest stocks (by market value) had actually risen  by +21% as a group, while the remaining 490 companies’ shares had lost -2.6%! That is the widest price performance advantage for the big ten since 1999, just before the market plunged into what is now labeled the “dot-com bust.” 

Few believe we are witnessing a replay of that era. While it’s just one historical data point, it is a sobering one, suggesting little investor support for most stocks. Many investors like to focus on historical data but, in some instances, a top-down, big-picture perspective may be in order.

What’s the main reason for the recent instability in U.S. stock prices?  The leading culprit is weakening corporate profits. Weak top-line revenue growth has characterized both the economic recovery and the bull market that began in 2009. Given the 2% GDP growth experienced in the U.S., companies have relied on cost controls and stock buybacks to engineer their profit rebounds. In recent years, though, rising cost pressures and a strong dollar have conspired to hamstring many firms’ profits, particularly the giant multinationals that represent a major share of the S&P 500.

A “No Place to Hide” Kind of Year

Often when U.S. stock returns disappoint, other asset classes (bonds, commodities, real estate, precious metals, foreign securities, even hedge funds) come to investors’ aid. That’s the underlying rationale for keeping portfolios diversified. But last year, soft returns were unusually widespread. Here’s a sampling of the 2015 disappointments:

Many hedge funds would have been delighted to match that Barclays index for their group. By all means, most investors in all of the above asset classes are glad to turn the page on the calendar.

Global Caution Still In Order; U.S. Best Positioned    

“It ain’t what you don’t know that gets you into trouble,” Mark Twain opined. “It’s what you know for sure that just ain’t so.”  Gazing into the midst of this new year, faced with such novelties as negative interest rates and an emerging “Caliphate,” a greater-than-usual amount of humility concerning likely future developments is apropos!

A cautious portfolio is certainly appropriate, for reasons we’ll mention in this memo. Still, our long-term view is that the U.S. private sector is best positioned among all the global economies to grow by putting investors’ savings to work productively. We enjoy here a culture of innovation, economic freedom and market transparency. And we believe that with some price corrections, perhaps even later this year, more attractive investment values will surface. 

Meanwhile, if one wants to avoid missing opportunities from better-than-expected developments, remain invested—but guardedly and attentively.

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